Response to Nyasa Times Article: “Stop stealing from the poor”
by Jordan Filko
On August 31, 2010 MicroFinance Transparency hosted a workshop in Lilongwe, Malawi, in partnership with the Malawi Microfinance Network (MAMN) to launch the Transparent Pricing Initiative in Malawi. In this workshop, MicroFinance Transparency Vice President Alexandra Fiorillo offered a range of local industry stakeholders training on the calculation of microfinance interest rates and various methods of implementing transparent pricing.
On the same day the Nyasa Times, based in Malawi, published an article on the event titled “’Stop stealing from the poor’ Central Bank boss tells banks.” This article has since received many comments from readers. While we are happy to see such a high level of interest and strong opinions among Malawians about pricing issues in their local microfinance market, there are several inaccuracies in this article that we would like to address.
There are many points made in the article that do not reflect the views of MicroFinance Transparency, and in many cases we do not believe that they accurately portray the dynamics of pricing in the microfinance industry either. MicroFinance Transparency works with all stakeholder groups of the microfinance industry to promote pricing transparency, including microfinance institutions (MFIs), regulators, funders and clients. We work internationally but on a country by country basis. In each specific country project, our methodology includes three primary components:
- Training: We offer training to all industry stakeholders on the calculation of interest rates, why transparent pricing is an issue in microfinance and how to communicate prices in a clear, consistent fashion.
- Education: In each country where we work, we develop and distribute educational materials tailored to the specific context of that country’s microfinance market and for different stakeholder groups.
- Interest Rate Disclosure: We collect data on the prices of microloan products offered in each country where we work and publish it on our website in a clear, consistent fashion. These prices are published as Annual Percentage Rates (APRs) and Effective Interest Rates (EIRs) so that different products can be compared. In countries where there are local calculation practices, we employ those as well. We publish this data alongside contextual information that helps explain the specific determinants of pricing in each microfinance market.
MicroFinance Transparency works with all stakeholder groups because we believe that it is important to involve all industry actors in promoting transparency. We do not believe that the interests of MFIs are at odds with those of clients, nor do we believe that the interests of regulators are at odds with those of MFIs. To the contrary, we believe that all stakeholder groups stand to benefit from a transparent microfinance market in which fair competition is facilitated and the rights of clients are protected.
We do not believe that the majority of microfinance institutions are “stealing from the poor.” Assessing whether interest rates charged to poor clients are “too high” or “driving them into a vicious cycle of abject poverty” depends on a number of factors. It is not sufficient to simply state an interest rate, out of context and with no information about the given loan product, and attempt to determine whether it is too high. Some additional factors to consider include:
- Loan size: Interest rates charged in microfinance tend to be much higher than those charged by mainstream lenders. This is in part because microloans by definition are smaller than mainstream loans, and prices tend to be higher for smaller loans because they are more expensive for institutions to offer.
- Target population: Microfinance loans can be especially expensive if MFIs are targeting hard to reach populations. For example, it can be more expensive to lend to a client in a remote location, especially if roads are bad, than it is to lend to a client living nearby in a city.
- Additional services: Microloans sometimes include additional services offered to clients, such as technical assistance or business training. These services can affect prices as well.
- Institution type: Commercial banks are often able to charge lower rates to their borrowers because they are licensed to mobilize deposits, which is a relatively inexpensive source of funding. Non-bank financial institutions who cannot take deposits are sometimes limited to more expensive funding sources, and may have to charge their clients higher rates to cover their own funding costs. In other cases, some non-bank financial institutions receive donor funding and may therefore offer loans at subsidized rates.
- Market context: In determining whether the price of a loan is high it must be considered in the context of the local market. A price may sound high but if it is in line with what most institutions in that market are charging it may not be inappropriate.
High interest rates are not synonymous with driving clients into poverty. Just because a loan is expensive does not mean that it is not helping a poor client. There are other ways of assessing this that are more appropriate, such as looking at repayment rates. High interest rates also do not necessarily imply that an institution is making a profit off of a poor client. Two institutions may charge the same interest rate on a loan, but if one has very low costs and the other very high costs then one may make a profit on the loan while the other may even make a loss. Stating an interest rate out of context and with no accompanying information and asserting that it is too high is inaccurate, misleading and an impediment to the progress of transparent pricing.
The article states that banks should “start breaking down all charges before they let a customer sign the loan agreement forms.” MicroFinance Transparency also believes that communicating all costs to a borrower is an important component of transparency. Borrowers should be made aware of charges such as interest rates, fees, insurance charges, compulsory savings as well terms such as the duration of the loan and the repayment frequency. Rather than taking legal action against MFIs who do not do this, as the article mentions, MicroFinance Transparency would recommend that the Central Bank instead provide guidance to MFIs in terms of effective ways of doing this. This may include requiring that loan officers read the loan contract out loud to each client before he/she signs it, or specifying exactly what information must be included on loan documentation given to borrowers. We would recommend that the Central Bank also work with MFIs on standardizing pricing disclosure, for example outlawing flat interest rates or requiring MFIs to communicate the APR/EIR of each loan to its borrower. Effective transparency means all costs to the borrower are communicated to the borrower in a clear, accurate way that can be compared across products and institutions.
Malawi is the first of eight African countries included in a broader MicroFinance Transparency project entitled the enabling APR & EIR Program. As the project progresses, we hope that this dialogue on transparent pricing in microfinance continues. It is important that the conversation is founded on knowledge and cooperation, so that transparent pricing can strengthen microfinance markets across Africa for all stakeholders.